Don’t Invest Into Another Startup Until They Take This Risk Assessment
Mukesh Dave — Angel Investor & Portfolio Manager, Global Arbitrage Fund
I’ve always thought the term “angel investor” had an interesting ring to it. On one hand, we are told to be careful with our money, to manage it well, and to make investments to count on for later. However, angel investors — wealthy individuals who flip those norms on their heads — invest in risky, and often unproven business models to which traditional means of financing are not an option. You may be an experienced angel investor, or someone that is just starting out, but the one thing you will both have in common is that you will invest in companies that will fail. I’ve made over 40 angel investments across a variety of industries, and I can attest that the failure statistics are true.
Many of us angel investors get that sense of a euphoric high when we can identify with an eager founding team’s vision and contribute to their success (which, in turn, becomes our own success). Believe it or not, we actually enjoy this treacherous sport, laden with expensive mistakes and huge hidden bounties.
And given that roughly 58% of businesses start with less than $25,000 in capital and approximately 33% start with less than $5,000, it’s not hard to see why individual angel investors and angel groups play such a critical role in helping startups with unique ideas get off the ground. It can be extremely profitable, with early investors seeing returns multiples in the tens or hundreds or even thousands. It can bring newfound fame to us as investors, and more importantly with that fame, access to new and higher quality deals.
But all niceties aside, let’s not overlook the fact that more than half of all startups fail in their first five years. Angel investors are constantly approached by companies, and those that make angel investing their full time job are inundated with opportunities. But it’s not always easy to separate the companies who are serious or have the skill set to break out of the cycle of failure many startups get trapped in. It’s easier than ever for a company to get a stunning pitch deck and roaring projections made to increase their odds of funding, and investors are choosing these companies for the wrong reasons. A strong due diligence and risk assessment with a plan is what will ultimately increase the long-term success numbers for these investors.
How to Protect Your Interests with a Risk Assessment
Investors and founders share many of the same interests and goals. Both need for the business to do well in order to maximize their gains, which means that both should focus on identifying events and activities that could prevent the business from hitting their targets. Recently, I found out a way that we can filter out companies that provide too much risk exposure versus the ones with strong founding teams and a greater chance at success.
Asking every company and founder you are considering investing in to bring an independent risk assessment report to the table ensures that both sides have done their due diligence in finding potential pitfalls and understand what needs to be done to address problematic areas. Any company pitching to my group for investment is going to be required to provide us with their TABS Score, which covers 100-evaluation points across 8 categories of the startup. This tool was designed to be used by founders and investors alike to generate an in-depth look at ways the company could be exposed that would affect their lifespan and chance of success.
As the number of startups being born grows exponentially, so are the number of risks that can be fatal to them. First-time Founders are not aware of all the business and operational risks, and those that are don’t know the first step to take to address them. Nowadays, the internet often makes the rules regarding who to do business with. Poor online reviews or negative publicity can travel as fast as you can click your mouse, and one foot in the wrong direction can mar a company’s public image, making it extremely difficult to regain a positive appearance.
As startups transform our everyday activities into digital dependencies, I’ve also noticed an uptick in conversations around cybersecurity. Cybercrime cost the global economy over $600 billion in 2017 alone, and companies are spending more than ever to protect precious data systems and maintain consumer trust. Companies who do fall victim to a data breach or ransomware attacks may end up shelling out tens of thousands of dollars (or more) to correct the problem.
Correction — WE, the angel or venture investors that backed the company initially, will end up shelling out tens of thousands of dollars in order to protect the capital we originally put in. I don’t know about you, but if I can have a company come to me with these points identified, it’s a no-brainer to make it a requirement. In fact, we wouldn’t even mind paying the assessment fee for them — a couple hundred dollars to make our investment of $50K or $100K slightly less risky is a justified cost to me.
The Benefits of a Risk Score for Investors
The TABS Score not only provides a score that we can use to evaluate the company from a high level, but also an in-depth report that allows both us and the founder(s) to gain a data-driven look at a company’s strengths and weaknesses, along with potentially problematic areas that need to be addressed. The goal is to use facts and data versus good pitches and hunches to make better investment decisions. As an investor, I value evidence over opinion.
You can set their own criteria for what a good risk score looks like and the types of companies to invest in. For example, you may only want to consider companies that have taken the TABS assessment and improved their score to 9.0 or higher. For us, we will accept companies below the 9.0 mark (within reason) and utilize our network to help them fix the issues. Ultimately, choosing the companies you invest in is entirely up to you. The TABS Score should not be the sole deciding factor — you should obviously conduct your own diligence. Investments will always be considered a gamble to some degree, but you can increase your likelihood of winning bigger and losing smaller by doing your due diligence.
Why shoot blanks when we can raise the chance of success, even if it is slight?
Mukesh Dave joined Ariana in 2014 and is the Portfolio Manager of the Global Arbitrage Fund. Alongside making angel investments into startups, Mukesh has significant experience in trading financial markets. His twenty-year career has been spent trading FX, rates, derivatives, options and local currency credit markets in EM Asia. Before joining Ariana, Mukesh worked with UBS as co-head of EM Asia Macro trading. Prior to that, he was head of the Southeast Asia Rates and Asia FX desk at Barclays Capital in Singapore.
Useful Links: TABS Score